Like a scene out of an old Abbott & Costello movie with the monster
creeping slowly up on the unsuspecting victim, usually Costello,
the Dow and S&P edged ever so closer to recent resistance. The Dow
might have soared above the 10635 level from last week had it not
been for Merck. The drug maker killed the opening rally on positive
economic news by announcing it was pulling its new arthritis drug
request from the FDA. The stock closed down -$3.69 on the news,
which equates to something in the area of -25 Dow points. This was
the major drag since there were only five other Dow stocks in
negative territory for a total loss of only $1.59.

The economic news just keeps pointing the way to better times and
the markets are showing every tendency to want to believe it. The
Industrial Production numbers soared in February to +0.4%, about
twice the consensus estimates, and with the upward revision to the
January number it has now been positive for two months in a row. It
is clear that the economy is coming out of the depths reached in
September. The chart below, courtesy of Economy.com, shows the
progress of the new trend.

Capacity utilization also rose but there is plenty of room for the
manufacturing process to grow before bottlenecks or price pressures
could impact inflation. The Fed has no worries here! The low interest
rates have encouraged expansion and that expansion is growing. Fourteen
of the twenty industries contributing to the report showed growth in
production in February. Without a pickup in the business environment
continued growth will be slow due to lack of demand but it is rising.

The Producer Price Index (PPI) also showed a slight increase in the
price of finished goods but the gain was negligible. The lack of
strong demand is keeping prices flat. The only major gains were due
to a rise in energy prices but those are likely to be cyclical and
are not expected to increase.

The Weekly Leading Index of the ECRI showed another slight gain
which was fueled by a drop in jobless claims and a rise in financial
stocks. The index is seen as a leading indicator of economic activity
and it is now at its highest level since early-2000. It is suggesting
the chances for an overall recovery in 2002 are very good.

Consumers must feel good about the future because the Michigan
Sentiment for March (preliminary) showed a gain of nearly five points
to 95 from 90.7 in February. The expectations component showed the
largest gain from 87.2 to 92.3 while the current conditions component
gained only 3.1 for the period. This is also the highest reading
for the survey since December 2000. Whether the recession is really
over or not it appears the consumer has already forgotten it happened.
Consumer spending remains high despite weaker then expected Retail
Sales this week. Much of this spending has been fueled by the low
interest rates and the flood of refinancings. What will happen as
the interest rates begin to rise is a source of concern.

Speaking of interest rates rising, the next FOMC meeting is Tuesday.
Nobody expects a rate hike so soon but almost everyone expects a
change in the bias to neutral. After nearly sending the economy
into shock by raising rates to the choking point two years ago it
is inconceivable that Greenspan will act rashly this time. He is
approaching retirement and would like to go out with the economy
on a high. Most analysts do not expect any actual rate hikes until
fall although the Fed funds futures are factoring in a 50 point hike
by July. According to anybody willing to go on record that is
unrealistic based on the tenuous nature of the economic recovery.
We are showing gains in almost every area but it takes a microscope
to see many of them. Most feel this meeting will see a change to
a neutral bias and a change to tightening will not happen until
the June-25th meeting. Why the futures are factoring in a 50 point
hike before then is unknown. Still, the uncertainty surrounding
the FOMC meeting on Tuesday is likely to impact any rally hopes
until after the closing statement is read.

If consumers could vote with their cash for an economic recovery
it would have looked like last week. For the week ended Wednesday
there was a whopping inflow of cash to the tune of $7 billion into
equity funds according to Trimtabs.com. Considering that there was
also a record number of debt offerings, $11 billion from GE, $8
billion from AXP, to name a couple, it was amazing to see that much
cash move into the stock market. The large number of debt offerings
has undoubtedly impacted the stock and bond markets over the last
two weeks. You can't take $30 billion, by some estimates, out of
the markets without a ripple. Much of that ripple was absorbed by
cash flowing out of the bond markets attracted to higher yields
from these high grade corporate borrowers. Still, we can attribute
some of the weakness in stocks to this as well.

Despite the mixed results for the week, Dow +35, Nasdaq -61, S&P
flat, it was a very good week. Not as good as the prior week which
saw strong rallies across the board, but very good in my opinion.
There was a very good chance for profit taking and a change in
direction. Instead only minor consolidation occurred and the major
averages are ready to test the high ground again. The Nasdaq bounced
off 1850 support and while it continues to lag the blue chips it
did behave well. Chalk up the weakness to multiple chip downgrades,
computer maker downgrades, Oracle earnings weakness and continuing
telecom problems. Still, if you look at AMAT, KLAC and NVLS, the
leaders in the .09 micron manufacturing process to be used in the
next generation of processors, they held support and were up strongly
on Friday. Intelligent investors know where the leaders will be
WHEN the recovery finally catches fire.

The triple witching options expiration week ended with a whimper
and most highly visible stocks ended pinned to critical strikes.
There was simply not enough conviction to break free from overhead
option resistance. Our turn will come, be patient.

Impacting the oil markets was the OPEC meeting this week. Oil
prices have risen to over $24 on fears they would cut production
or we would attack Iraq. Neither has happened and the short squeeze
from futures traders has now passed. OPEC said they would not cut
production and that clears the air until the next meeting in June.
The administration is getting no support for attacking Iraq so
oil should continue to flow from there. I bring all this up because
I think the stage is set for a drop in oil prices and a corresponding
drop in oil stocks as money moves out of this hot sector. Most
stocks like the ones we have been playing, SII, TDW, etc, have huge
gains and traders will likely rotate out of oil now that the pressure
is off and into something else. The hot sectors on Friday were
biotech, health care and banking to name a few. The transports
should firm again as oil cheapens and support the next leg up for
the Dow.

That leg could come as early as Monday. All of my indicators were
bearish prior to the close on Thursday but turning up. After the
economic reports on Friday they firmed even more. Had it not been
for MRK losing -3.69 and being an huge morning drag on the Dow the
close on Friday could have been significantly stronger. Make no
mistake, we are not out of the woods yet. Close but not yet. The Dow
did close over 10600 again and the S&P eased back to within nine points
of resistance at 1175. These are critical levels. Once over 10635
and 1175 there should be another round of short covering.

Also, we are entering the end of the quarter. Fund managers sitting
on cash and seeing the Dow and S&P breaking out of resistance
could start chasing stocks in order to dress up their portfolios
for quarter end. They are paid to produce results not sit on cash.
They will want their statements to be chock full of premium names
to encourage investors that they are on the job.

If it were not for the FOMC meeting on Tuesday I would be much
more bullish on the coming week. Once over that hurdle the CPI and
FOMC minutes will loom in our path on Thursday but neither are
expected to be earth shaking. Greenspan has repeatedly said bullish
things about the recovery so minutes of the Jan-30th meeting will
not be relative. My exit levels for last week were 10450/1865/1145
respectively. The only one breeched was the Nasdaq, which traded
down to 1850 on Thursday, and 1845 on Friday. It rallied to close
back above 1865 but only barely. I still believe bullish investors
should be in the markets until the current trend changes. When it
does we should exit gracefully and wait patiently for a new entry
point. I am revising my exit points for this week to Dow 10475,
Nasdaq 1850 and S&P 1150. Should any of those levels be broken
I would consider closing any long plays in danger.

That last comment will bring a flood of email so let me explain.
If you are invested in a Dow stock and the Dow fails then you should
probably close the play. Same with a tech stock during a Nasdaq
failure. However, in many circumstances you could be in a stock
that is gaining $1 a day, regardless of market direction, like UNH
last week. There is no reason to close those plays unless they show
weakness. You must use your judgment. The exit levels I give you
are general guidelines. We all know that 85% of a stocks movement
is related to the market/sector movement. If the sector is hot due
to rotation out of the general market then by all means enjoy it.
Just be aware that a prolonged market dip will eventually impact
all sectors and all long plays. In times of market weakness snug
up those stops on the winners before they become losers.

One last note. While I am leaning to the bullish side in the
comments above, I am still expecting another sell off in the
next several weeks. This may seem like a contradiction but we
need to always be conscious of historical trends. I mentioned
that my indicators were turning bullish on Friday but one is
definitely going bearish. The VIX closed at a low on Friday of
20.77 and a level not seen since last July. The challenge here
is a combination of events. The bullish sentiment is swelling
for reasons stated above but that same sentiment can change in
a heartbeat as we all know. I have written about this several
times in the last month but we need to always remember that the
period between April-15th and May-15th usually brings a drop in
the markets. This is the start of the summer doldrums and is
usually prompted by weak earnings in the coming cycle. As
evidenced by the Oracle earnings this week the economy has yet
to recover to the point where earnings will exceed expectations
for the 1Q. We have not had many warnings this cycle but the
season is still young. Expect positive events but be prepared
for negative surprises. Eric is going to go more in-depth on
the VIX correlation in the Market Sentiment this weekend. Be
sure to check it out.

We have had many rewarding plays in the "Watch List" section of
the newsletter recently. For those not familiar with this section
Eric chooses several stocks, which appear ready to make a move
and suggests entering a play only when the action point is met.
For those new to this section you can visit it here: